THE OBJECTIVE FUNCTION OF SIMULATION ESTIMATORS NEAR THE BOUNDARY OF THE UNSTABLE REGION OF THE PARAMETER SPACE

The paper examines the role of stability constraints in estimation by dynamic simulation. In particular, it analyzes the behavior of the obj ective function on either side of the boundary of the stability region of the parameter space. The main finding is that stability constraint s may be ignored because the simulation-based objective function conta ins a built-in penalty to enforce stability. A key caveat, however, is that the dynamic stability of the auxiliary model that defines the mo ment conditions must be checked and enforced. An attempt to fit via si mulation to moments defined by a dynamically unstable auxiliary model can be expected to lead to an ill-behaved objective function.